Sad Bear Tale
The following is an unabridged excerpt from the book The Psychology of Speculation (The Human Element in Stock Market Transactions) first published by Henry Howard Harper in 1926. The years covered in this spellbinding excerpt are 1915 and 1916. This particular story appears under the heading "Retired Business Men in the Stock Market "on pages 21 through 42 of the 1978 second printing of the Fraser Publishing Company edition..
"When the American Hide and Leather Company was formed a number of years ago, a prominent Boston leather merchant of my acquaintance, sold his business to the new organization for a round million dollars in preferred stock and bonds, and in the course of the next few years of more or less restless inoccupation he devoted himself to a systematic study of investment securities and general stock market conditions. The panic of 1907, when values were almost entirely lost sight of in the mad scramble to liquidate stocks, afforded a rare opportunity to view the follies of reckless speculation, and our astute leather merchant was quick to observe the importance of this salutary lesson. The recovery that followed was almost magical and many who bought stocks at the low prices doubled their money in a few months. Then following this sharp recovery there was the natural setback when speculators undertook to convert their new wealth into cash. And this too proved a wholesome lesson to our new apprentice in the game of high finance. For some years he had held to the conservative practice of investing only in non-speculative bonds, but this proved to be a slow and monotonous process of enlarging his fortune; furthermore it was devoid of the exciting thrills experienced by those who make fortunes overnight. He thought the funds of widows and orphans ought properly to be invested in gilt edge bonds and mortgages, but for a man of his business sagacity, in the prime of life , to content himself with merely cashing his coupons every six months was to decline into a state of innocuous desuetude - a condition into which he was determined not to retrograde. To launch one's bark into the rapidly shifting currents of fortune in the stock market and attempt to steer an even course is one of the surest preventives of ennui, and after deliberately weighing and analyzing conditions from every conceivable angle our erstwhile leather merchant concluded that cutting a few coupons now and then was too tame an occupation for a man of his acumen and ambition. He informed his friends that after years of careful study of the "game," he was convinced that the reason why people lost, was that while in theory they all had the right ideas, they all used wrong formulas in practice. He declared that the "public," so-called, always "bought at the top and sold at the bottom" - a commonplace in stock market parlance, though not necessarily true. Also that the inclination of all speculators is to venture out beyond their depth, i.e., to buy more stocks than they can pay for, or protect by ample margin. This indiscretion he thought to be especially characteristic of those with but small capital, whose eagerness for large gains outstripped their conservatism and exposed them to the perils of abrupt and unexpected reactions and panics. He had never bought more hides and leather than he could pay for, or protect with sufficient margin to carry them through the severest depression.
He was a self-made man; he had entered his firm as errand boy, and by sheer force of perseverance, ambition and intellect he rose steadily in usefulness and power until he became sole proprietor of the whole establishment. His prestige and the bulk of his fortune had been made in buying and storing goods when the markets were glutted and prices were low, and holding them till the markets were bare and prices were high. After accumulating large stores it sometimes required a year or more of patient waiting for the readjustment of trade conditions; but never had there been a time when during a given cycle, prices had not been abnormally low and also abnormally high. He reckoned his twenty-five years of this sort of training as a singularly qualifying element of success in buying and selling stocks. This undertaking, like dealing in hides and leather, required forethought, discretion, patience and courage. There was scarcely a two-year period in any decade wherein stocks in general could not be bought reasonably cheap; nor was there a similar period when at some time during the twenty-four months they could not be sold at fairly high prices. Statistics proved this to be almost infallibly true; statistics likewise proved that the preponderance of failures in his own line of business could be traced to injudicious purchases of large stores of merchandise at high prices, with resultant inventory losses. As a merchant he had learned that buying and selling leather and hides at a profit was a matter of forecasting future conditions in the light of past events; and as a student of stock market conditions he learned that a recovery of values always follows a prolonged slump in the price of stocks, and that sure success awaits those who pick the right psychological moments to buy and sell.
In due time this retired merchant secured a desk in a brokerage office and undertook to study the stock market systematically at close range, and to reduce some of his theories to actual practice. He did not launch into this new venture as one would plunge into a cold bath; he patiently watched the action of the market from day to day, until stocks declined to a point where it seemed safe to begin buying on a scale down. Meanwhile he continued to study stock market charts and conditions - charts with double bottoms, double tops, pyramids and all such enlightening information - about past performances. At length he bought a few hundred shares of selected stocks, depositing bonds as margin - ample margin of fifty points or more. Prices reacted a little further, and in keeping with his motto, which was - "Buy on the decline, when the public is getting out, and sell on the rise when the public is getting in," he increased his holdings at every two or three points decline. In the course of time the market faced about, stocks began to recover, and in a few weeks he had the satisfaction of seeing his plans work out successfully in experiment, with a net gain of enough to cover interest on his investment for more than four years. According to precedent a temporary reaction was due; therefore, like most wary beginners, he sold out and cashed in his profits. In his exhaustive study of stock market psychology he had learned that while it is the practice of inexperienced traders to take small profits on stocks in a rising market, it is also their custom to buy the stocks back again at much higher figures, instead of waiting for prices to decline. This was one of the danger pits charted on his course of action; one of the many against which he had built up mental fortifications, strong enough in seasons of peace and calm, but in most people easily destructible by the baffling influences of stock market speculation.
Although a beginner in practice, he was a veteran in theory, for prior to entering the financial arena he had made hundreds of imaginary purchases and sales, nearly always at a profit. Moreover he had discovered that one may play both sides of the market, apparently with equal safety, and that the biggest "killings" are said to be made on the "short" side. By selling "short" on bulges and "covering" (i.e., buying the stock in to cover the sale) on reactions it was possible not only to make money both ways, but also to avoid the tedium of waiting inertly for opportune occasions to buy at bargain-prices. From the experience of others he derived a valuable lesson, namely, that investors and traders are always too eager to keep their capital constantly employed; that they are prone to hold stubbornly to one position, either long or short; and that the well-nigh irresistible impulse to get back into the market after selling out, whether at a profit or a loss, has probably been the ruination of more speculators than any other one cause. Playing the market both ways seemed a sure means of forestalling this error.
The thought of becoming a stock "gambler" was farthest from this man's mind; for gambling in any form was contrary to his code of ethics. But buying and selling legitimate commodities could not be construed as gambling; therefore stocks and bonds, being legitimate commodities, could be bought and sold without doing violence to the most sensitive conscience. In order to gamble, one must "risk or stake something on an uncertain event:' which is popularly regarded as a vice, and is made legally wrong because it is said to be injurious to the public morals. It also is morally wrong to gamble, because if you win you deprive your fellow-being of something without giving any adequate return. Our friend contended that stocks bought at figures below their intrinsic value are so sure to advance, that the transaction does not come within the given definition of the word gamble; also that the same rule applies to stocks sold at prices far above their worth, no matter whether for long or short account. He reasoned that if he gained by selling a stock short, although someone was apt to be the loser, he had no means of knowing who that someone was, therefore he assumed no moral responsibility in prudently acquiring money in a businesslike way, even at the expense of some indefinite person who had been foolish enough to risk it. If the act of selling stocks which one does not own is regarded by some as being unethical in the strictest sense, it is at least sanctioned by general custom. All sorts of goods are sold for future delivery, even before they are manufactured; and our erstwhile merchant had often sold leather for forward delivery, while it was still in process of tanning; hence he had no scruples against selling stocks in anticipation of being able to buy and deliver them later.
It is generally conceded that the public is always arrayed on the "long" side (that is, the buying side) of the market; it is also universally admitted, at least by those who know, that the so-called "public" always bears the brunt of stock market losses; therefore our friend decided that he would act the part of wisdom and go "short" of the same number of shares that he had previously bought and sold, - the idea being that before selling his long stock he convinced himself that approximately the top prices had been reached, in which case the market would naturally react. But for some inexplicable reason it failed to run true to his expectations; that is, the probable course deducible from charts and precedents. Per contra, the prices continued stubbornly to rise. When he had lost all his profits he backed his judgment by his actions, and doubled his short sales; and at five points higher he doubled again, for a break was long overdue. Being short upwards of three thousand shares in a rapidly rising market is a tremendous mental strain, even for a seasoned trader; and naturally our novice became somewhat nervous. Some stock market wiseacre - one or more of which class are usually to be found lounging about every brokerage office - consolingly remarked that while stocks have a certain fixed bottom, they have no top; which increased his anxiety.
After studying charts and various compilations of figures and facts about earnings and past market performances, he concluded that Bethlehem Steel, selling at $45 a share, was not worth half that price; also that Studebaker at $35 was much too high. After an extended inquiry into the past and prospective earnings of these two companies he sold short a thousand shares of each; but instead of reacting they steadily maintained their upward course with the rest of the list. His broker called for more margin, and he put up another hundred thousand in bonds. He was advised to "cover" and go "long," but he stood firmly by his convictions - and the charts.
"That's why the public all lose," he declared; "they get `cold feet' and shift positions at the wrong time." From a personal friend who was a director of the new General Motors Corporation he got an "inside tip" that that stock, selling at $82, was too high, so he added a few hundred shares of it to his short account. Meantime the country's commerce and the entire group of stocks, moved forward with the steady even tread of an army on parade.
At this time (1915) the major portion of the civilized world was embroiled in a mad turmoil, employing every known device and resource in destroying human life and every form of physical property. With the very foundations of civilization thus disrupted, and our own country on the verge of being drawn into a deadly combat in which the most humane and enlightened nations of the earth were reverting to the practices of ancient barbarism, it is not strange that our merchant friend should have argued that it was a most unpromising situation upon which to construct investment values and business prosperity. It was inconsistent, inconceivable and seemingly impossible that stocks, even good stocks, could continue to advance in the face of such demoralizing conditions. When war was first declared, even before England became involved, the stock market was thrown into such a violent state of panic that it became necessary to close the stock exchange for several months; yet now when the clouds of disaster were at their darkest and hung menacingly over the whole of civilization this country alone was indulging in a riotous exhibition of prosperity such as had never been dreamed of. The market tipsters, the financial editors of newspapers, the brokers' letters and all stock market literature, with but few exceptions, were crowing loud and boastfully for still higher prices, and after the whole group of stocks had risen in unison for a time, some individual stock was singles out every day or so, pushed into the forefront and skyrocketed to dizzying heights. The brokers and all the customers were delirious with joy and excitement. The stock brokers were all bulls, the traders were bulls, the tipsters and rumor-mongers were bulls - even the office boys who called the quotations from the tickers were bulls, and shouted vociferously when some special stock jumped a point or more from the previous quotation; and it seemed to our trader that in calling out the advancing prices special emphasis was always given to the particular stocks he was short of. He was literally beset with bullish exultation and bullish news from everywhere. The noisy enthusiasm in the board-room rankled in his ears and rasped on his over-wrought nerves. He felt as one could imagine a tiny lone bear would feel in the center of a great arena, surrounded by a cordon of cavorting bulls. To him it seemed that he was the only bear on earth. There might be others, but they were too cleverly sequestered to admit of sharing his misery with them.
In a bear market a discouraged bull is at least not despised; he may find a sympathetic sufferer; but in a bull market no one ever wastes any compassion on a bear, or admits sympathetic kinship with him. He is popularly regarded as a pessimist, a destroyer of values, a discordant note, an uninvited guest at a banquet. If it be a true saying that "misery loves company," it must follow that wretchedness is accentuated by noncommunion with fellow-sufferers; in which case it may be said that the situation of a bear in a rousing bull market represents the ne plus ultra of hopeless desolation. At length it became a mooted question whether to "sit tight" and wait for the boisterous storm to blow over, or cover his shorts, buy more stocks and go with the tide. Heretofore he had maintained a stolid attitude, born of self-confidence, inspired by a triumphant business career, and supported by precedent and every reasonable prophecy. The traders had simply gone mad and were rushing headlong to their ruin, as they had often done before. History was merely repeating itself. It was a time for sound coolheaded judgment, and he stood firm in the determination not to lose his head and join in any such reckless carousal. But the more he reasoned and studied the charts, the more unprecedented and obstinate the market became. One thing he failed to consider was, that the favorite caprice of the stock market is to violate precedent, and to do the thing least to be expected of it. The newspapers gave front page double-column headings to business improvement and stock market news - the enormous demand for textiles, increased prices for all commodities, easy money conditions, all labor disputes amicably adjusted, and the stage all set for the greatest era of prosperity the world had ever known. The financial columns of the newspapers literally teemed with bullish interviews with financiers and bullish reports in all lines of trade and finance. There was scarcely a discordant note in the rush and rhythm of progress; and when one was faintly sounded the general din instantly smothered it. Even the great cataclysm in Europe was now construed as an additional bull point, because our factories were all running night and day to supply the armies with equipment and provisions. It was argued that the more they fought the more supplies they would need, and the more money we would make in furnishing them; also that the more ships the Germans torpedoed the greater demand there would be upon our shipyards to replace them. The nation had indeed gone prosperity mad, while the rest of the world was going to destruction - certainly an irregular and puzzling phenomenon. Occasionally when some veteran writer piped a note of warning to stock speculators, it was met with a new outburst of bullish demonstration, and the market swept on like a conflagration in a city built of tinderwood. Stocks that had lain dormant for months suddenly came to life and became the favorites of powerful cliques; corporations that had never earned their fixed charges were said to be piling up enormous surpluses, the railroads and steamship lines were glutted with traffic, the factories, steel foundries and ammunition plants were running night shifts, banks and millionaires were said to be buying everything for control, whole fleets of grainladen ships were going abroad and the farmers were simply wallowing in wealth; the retail stores were jammed with eager customers, labor was all employed at high wages, and Big Business was rushing with all the force of an avalanche along Prosperity Highway, without a danger signal in sight.
Gradually, though manifestly, it became evident that to resist such a tremendous momentum was as expensive as it was exasperating; and his hitherto fond illusions of greater wealth were dispelled by a terrifying reality. But a man who has been right all his life is not easily convinced that he is wrong in a market position that seems justified by common sense and fundamental conditions. And yet, however steadfast human resolution may be, it is well-nigh impossible to maintain a fixed attitude in opposition to such a cumulative and overwhelming force. The sensation of being short in a rampant bull market has been pictured as similar to that of being chained by the heels to a rising balloon, without any idea of the height to which the gas will carry it - not a cheery picture for the contemplation of one who is bearishly disposed. It is therefore easy to understand how likely one is under these "third degree" operations to lose his mental bearings, his nerve - and his money. A trader who is long of stocks knows to a certainty how much he can lose on any given number of shares; but on the short side there is no limit to what one may lose, even on a few hundred shares. The loss of a definite sum, whatever the amount may be, can be borne with equanimity by a man of nerve; but to maintain a short position in a bull market gives one about as uneasy a feeling as it would to have a number of outstanding promissory notes with the amounts left blank for some unknown person to fill in. It keeps one in a constant state of fear, and fear knows no limitations; it contemplates and magnifies every baneful possibility.
However, this man of iron nerve, this erstwhile dominant figure in the leather trade who had ridden for a quarter of a century with his feet firmly in the stirrups, was not to be easily unhorsed. At the close of a turbulent day he took account of stock and decided to "cover" (buy in) all the dividend paying stocks he was short of, and to sell an equal number of additional shares in the non-dividend paying issues, such as Bethlehem Steel, General Motors and Studebaker. The reckoning showed a paper loss of a quarter of his million dollar capital, but he bore it courageously, determined to recover it by adopting the safer course of "shorting" only such stocks as had never paid dividends, and perhaps never would. Therefore he sold more Bethlehem Steel, at $80, $90, $100, $150 and $200 a share. He sold Studebaker again at $75, $100 and $150, and more General Motors at $100, $150, $200; and a hundred shares at every fifty points advance until it reached $500. Those who knew him in the board room said that throughout this ordeal he maintained the most inflexible nerve they had ever known; but at the close of the market on that memorable day in 1915 when Bethlehem Steel touched $600 a share he collapsed in a state of nervous prostration and was taken home in an ambulance. He did not live to see General Motors sell at $850 a share (on October 25, 1916) and Bethlehem Steel at $700 a share (on November 18, 1916). Long before these figures were reached his million dollar capital had vanished and he had crossed the bar into the Great Beyond. His widow was left almost penniless and he was buried at the expense of his Lodge. Shortly before passing away he remarked sorrowfully to a friend at the bedside, - "in the past year I've suffered every torment known to the demons of hell. My only grain of comfort is that it's all over now and I have nothing more to lose."." |
